Exemption for Certain Open-End Management Investment Companies To Impose Deferred Sales Loads

SUMMARY: The Commission is proposing amendments to the rule under the

Investment Company Act of 1940 that permits certain registered open-end

management investment companies (``mutual funds'') to impose contingent

deferred sales loads. The proposed amendments would allow funds to

offer investors a wider variety of deferred sales loads, including

installment loads, and would eliminate certain requirements in the

rule. The Commission also is proposing amendments to the registration

form for mutual funds, and publishing for comment a staff guide to the

registration form. These amendments modify the requirements for

disclosing deferred sales loads in mutual fund prospectuses to reflect

the changes made in the proposed rule amendments.

DATES: Comments must be received on or before April 17, 1995.

ADDRESSES: Comments should be submitted in triplicate to Jonathan G.

Katz, Secretary, Securities and Exchange Commission, 450 Fifth Street,

NW., Mail Stop 6-9, Washington, DC 20549. All comment letters should

refer to File No. S7-8-95. All comments received will be available for

public inspection and copying in the Commission's Public Reference

Room, 450 Fifth Street NW., Washington, DC 20549.

FOR FURTHER INFORMATION CONTACT: Nadya B. Roytblat, Staff Attorney,

(202) 942-0693, or Robert G. Bagnall, Assistant Chief, (202) 942-0686,

Office of Regulatory Policy, Division of Investment Management,

Securities and Exchange Commission, 450 Fifth Street NW., Mail Stop 10-

6, Washington, DC 20549.

SUPPLEMENTARY INFORMATION: The Commission is requesting public comment

on proposed amendments to rule 6c-10 (17 CFR 270.6c-10) under the

Investment Company Act of 1940 (15 U.S.C. 80a) (the ``Investment

Company Act'' or the ``Act''), and on proposed amendments to Form N-1A

(17 CFR 239.15A, 274.11A) under the Securities Act of 1933 (15 U.S.C.

77a-77aa) (the ``Securities Act'') and the Investment Company

Act.1

\1\Exemption for Certain Open-End Management Investment

Companies to Impose Contingent Deferred Sales Loads, Investment

Company Act Release No. 20916 (Feb. 23, 1995) [hereinafter Rule 6c-

10 Adopting Release].

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Executive Summary

The Commission is proposing amendments to rule 6c-10 (17 CFR

270.6c-10) under the Investment Company Act to allow mutual funds to

impose deferred sales loads other than contingent deferred sales loads

(``CDSLs''), and to remove certain requirements in the rule. Rule 6c-

10, which allows mutual funds to impose CDSLs, was adopted today in a

companion release.2 The proposed amendments would allow mutual

funds to assess sales charges such as those paid at redemption (``back-

end loads'') that differ from CDSLs, as well as loads paid after

purchase during the term of a shareholder's investment in a fund, for

example, in installments (``installment loads''). These new forms of

deferred sales load would be an alternative to the existing sales load

structures. Although mutual funds to date have not used installment

loads or back-end loads other than CDSLs, the Commission has permitted

back-end loads under the rules for certain variable insurance products,

and has issued installment load exemptive orders to separate accounts

and unit investment trusts.

\2\Supra note 1.

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Rule 6c-10 provisions for back-end loads other than CDSLs and

installment loads were part of proposed rule 6c-10 as originally

proposed in 1988.3 That proposal would have codified for deferred

sales loads generally the exemptions and the requirements in the CDSL

exemptive orders granted to date. Rule 6c-10 was adopted today to allow

CDSLs essentially as proposed. Some commenters on the original proposal

suggested that, because mutual fund sales charges are regulated by the

National Association of Securities Dealers, Inc. (the ``NASD''), it is

unnecessary for the Commission to impose specific requirements on

deferred loads, other than requirements governing prospectus

disclosure. The Commission is proposing amendments to rule 6c-10 to

follow such an approach for CDSLs and other deferred loads by removing

most of the requirements in rule 6c-10. Under the new approach, the

terms of any deferred sales load would be subject to specific

disclosure requirements and would be covered by the overall limits in

the NASD rule governing the amount of mutual fund sales charges (``NASD

Sales Charge Rule''). The Commission also is proposing revised

prospectus disclosure requirements that reflect the proposed changes to

rule 6c-10.

\3\Exemptions for Certain Registered Open-End Management

Investment Companies To Impose Deferred Sales Loads, Investment

Company Act Release No. 16619 (Nov. 2, 1988), 53 FR 45275

[hereinafter 1988 Proposing Release].

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I. Background

The Commission first proposed rule 6c-10 allowing mutual funds to

impose deferred sales loads on November 2, 1988.4 Under the 1988

proposal, mutual funds would have been able to assess deferred loads

under the terms and conditions contained in CDSL exemptive orders

granted to individual funds as of the date of the proposal. The

proposed rule would have permitted mutual funds to charge not only

CDSLs,5 but also loads paid at redemption whose amount remains the

same or changes in a manner different than a CDSL, as well as loads

paid in one or more installments during the term of a shareholder's

investment in a fund. In accordance with the CDSL exemptive orders, the

rule as proposed in 1988 would have specified load calculation

requirements; prohibited deferred loads on reinvested distributions;

and allowed scheduled load variations. Rule 6c-10 as adopted today to

allow CDSLs contains these requirements.

\4\1988 Proposing Release, supra note 3.

\5\A CDSL is paid at redemption, but declines to zero if the

shares are held for a certain period of time. Mutual funds typically

impose a CDSL in combination with an asset-based distribution fee

charged in accordance with rule 12b-1 under the Act [17 CFR 270.12b-

1] (``rule 12b-1 fee''), in an arrangement commonly called a

``spread load.'' Under this arrangement, a fund's principal

underwriter initially pays the fund's sales and promotional

expenses, including commissions to persons who sell the fund's

shares. The underwriter then recovers these expenses through a

distribution fee paid to it by the fund out of the fund's assets.

Should a shareholder redeem his or her shares before the underwriter

has been fully reimbursed, the CDSL paid by the shareholder upon

redemption compensates the underwriter for the balance.

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The Commission received 33 comment letters on the 1988

proposal.6 [[Page 11891]] The commenters generally supported the

proposal.7 The commenters welcomed a rule allowing CDSLs as

eliminating the need to file exemptive applications, and many

maintained that installment loads could offer desirable flexibility to

funds as well as consumers.8 Individual investors in particular

supported installment loads as an option in paying a sales

charge.9 Some of these investors compared installment loads to

front-end loads and preferred the former as allowing them to defer the

payment of a sales charge; others compared installment loads to rule

12b-1 fees, and believed that installment loads as proposed in 1988

would be a more clear charge, as well as one that would be payable

within a more definite term. Other commenters have suggested that

installment loads would make it easier for smaller mutual fund

sponsors, as well as sponsors of mutual funds not affiliated with

brokerage firms, to obtain financing to pay broker commissions through

securitization of installment load cash flows; and they argued that

installment loads would thereby encourage competition in the fund

industry that ultimately would benefit investors.10

\6\The commenters included the American Bar Association

Subcommittee on Investment Companies and Investment Advisers (the

``ABA Subcommittee''); the American Council of Life Insurance;

Deutsche Bank AG New York Branch (``Deutsche Bank'') (commenting

outside the comment period); Fidelity Management and Research

Company; Gaston & Snow; IDS Financial Services, Inc. (``IDS

Financial''); IDS Mutual Fund Group; the Investment Company

Institute (the ``ICI'') (commenting both within and outside the

comment period); the Keystone Group, Inc. (``Keystone''); the

National Association of Securities Dealers, Inc.; NASL Financial

Services, Inc. (commenting outside the comment period); NYLIFE

Securities, Inc. (``NYLIFE''); Simpson, Thacher & Bartlett

(``Simpson Thacher'') (commenting outside the comment period);

Templeton Funds Management, Inc. (``Templeton''); and 19 individual

investors. The comment letters are available for public inspection

and copying at the Commission's public reference room in File No.

S7-24-88.

\7\The comments addressed CDSLs and installment loads, but did

not focus specifically on back-end loads other than CDSLs. While

some earlier industry commenters perceived practical difficulties

with using installment loads, more recent industry comments suggest

that any such difficulties either no longer exist or could be

resolved. Compare Letter from the ABA Subcommittee to Jonathan G.

Katz, Secretary, SEC (Jan. 11, 1989); Letter from IDS Financial to

Jonathan G. Katz, Secretary, SEC (Jan. 3, 1989); Letter from the ICI

to Jonathan G. Katz, Secretary, SEC (Jan. 9, 1989); Letter from

Keystone to Jonathan G. Katz, Secretary, SEC (Jan. 6, 1989)

(together, suggesting recordkeeping, transfer agent, accounting and

tax-related complexities associated with installment loads) to

Letter from Deutsche Bank, submitted on its behalf by Simpson

Thacher, to the Division of Investment Management, SEC 2 (Dec. 13,

1993) (stating that Deutsche Bank ``encountered a great deal of

interest'' in installment loads in the course of its ``discussions

with more than 15 well-recognized (both small and large) mutual fund

management companies'').

Two earlier commenters also interpreted a statement in the 1988

Proposing Release that the proposal of rule 6c-10 should be read

together with the Commission's proposed amendments to rule 12b-1, as

intending to mandate installment loads as a replacement for spread

loads. ABA Subcommittee comment letter, supra note 7, at 3; ICI

comment letter, supra note 7, at 2, 13-16. See also Payment of

Asset-Based Sales Loads by Registered Open-End Management Investment

Companies, Investment Company Act Release No. 16431 (June 13, 1988),

53 FR 23258. The 1988 proposal was not intended to express such a

view, nor is the Commission today expressing such a view.

\8\Letter from IDS Mutual to Jonathan G. Katz, Secretary, SEC

(Nov. 15, 1988); Letter from NYLIFE to Jonathan G. Katz, Secretary,

SEC (Dec. 30, 1988); Letter from Templeton to Jonathan G. Katz,

Secretary, SEC (Jan. 9, 1989); Deutsche Bank December 13, 1993

comment letter, supra note 7; Letter from the NASL to the Division

of Investment Management, SEC (Feb. 16, 1994).

\9\All but one of the 16 letters the Commission received from

individual investors on this subject favored the installment load

proposal.

\10\Deutsche Bank December 13, 1993 comment letter, supra note

7; NASL comment letter, supra note 8. Both commenters compared the

financing possibilities with installment loads to the financing of

receivables from rule 12b-1 fees. The commenters noted that the risk

of a fund board's terminating a rule 12b-1 plan, as well as the risk

of net asset value fluctuations inherent in an asset-based charge,

currently restrict the availability of credit to larger mutual fund

sponsors only; and that installment loads, which would not carry the

same risks, could broaden the financing possibilities. See also

Letter from the ICI to Barry Barbash, Director, Division of

Investment Management, SEC 5 (June 14, 1994) (noting that

facilitation of the financing of distribution costs is one of the

principal objectives cited by the proponents of installment loads).

One commenter's remarks suggested that, from the point of view

of those concerned with systemic risk, the assurance of a steady

stream of payments in an installment load structure would mean that

a fund sponsor would be taking on less risk when it borrows to

finance commission payments. Deutsche Bank December 13, 1993 comment

letter, supra note 7, at 4-5.

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II. Discussion of Proposed Amendments to Rule 6c-10

Like the 1988 proposal, the proposed amendments to rule 6c-10 would

allow mutual funds to impose back-end sales loads other than CDSLs as

well as installment loads, and would permit scheduled load variations.

In a change from the 1988 proposal and the rule as adopted, the

proposed amendments no longer would specify load calculation

requirements, nor prohibit deferred sales loads on reinvested dividends

and other distributions. Instead, the terms of any deferred sales load

would be required to be covered by the overall limits in the NASD Sales

Charge Rule,11 and would be subject to specific prospectus

disclosure requirements under the proposed amendments to the

Commission's mutual fund registration form.

\11\The NASD Sales Charge Rule prohibits NASD members from

offering or selling shares of an open-end management investment

company registered under the Investment Company Act if the sales

charges described in the company's prospectus are excessive.

Aggregate sales charges are deemed excessive under the Rule if they

do not conform to the specific provisions set forth in the Rule.

NASD, Rules of Fair Practice, Art. III, Secs. 26(d) (1) and (2).

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A. Scope of the Rule as Amended

Under the proposed amendments, paragraph (b)(3) of the rule would

define a deferred sales load as any amount properly chargeable to sales

or promotional expenses that is paid by a shareholder after purchase

but before or upon redemption.12 The definition would include

CDSLs, as well as other loads paid at redemption whose amount may

remain the same or change in a manner different than a CDSL. The

definition also would include loads paid after purchase during the term

of a shareholder's investment in a fund, such as in one or more

installments that could be accelerated upon an early redemption.

\12\Rule 6c-10 as amended would not be applicable to certain

charges that may be imposed by a mutual fund to discourage short-

term trading in its shares and that are paid directly to the fund.

See, e.g., 17 CFR 270.11a-3(a)(7) (defining a ``redemption fee'').

The Commission's staff has taken the position that such charges may

be imposed without the need for exemptive relief under the Act. See,

e.g., John P. Reilly & Associates (pub. avail. July 12, 1979).

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Rule 6c-10 as adopted and as originally proposed does not apply to

registered insurance company separate accounts. The exemption to impose

deferred sales loads under the proposed amendments also would not

extend to unit investment trusts. The Commission has issued installment

load exemptive orders to unit investment trusts (``UITs''),13 and

requests comment on the appropriateness of a rule allowing UITs to

assess deferred loads.14

\13\See Merrill Lynch, Pierce, Fenner & Smith, Inc., Investment

Company Act Release Nos. 13801 (Feb. 29, 1984), 49 FR 8512 (Notice

of Application to allow UITs to impose a deferred sales load payable

in installments) and 13848 (Mar. 27, 1984), 30 SEC Docket 192

(Order), and 15120 (May 29, 1986), 51 FR 20389 (Notice of

Application) and 15167 (June 24, 1986), 35 SEC Docket 1735 (Order).

See also PaineWebber, Inc., Investment Company Act Release Nos.

20755 (Dec. 6, 1994), 59 FR 64003 (Notice of Application to allow a

UIT to impose a deferred sales load payable in installments) and

20819 (Jan. 4, 1995) (Order).

\14\See Rule 6c-10 Adopting Release, supra note 1, at n.7

regarding deferred sales loads in the context of separate accounts.

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Unlike the 1988 proposal, which would have required installment

loads to be deducted directly from a shareholder's account, the

amendments would not require any particular method of collecting

installment loads. The loads, for example, could be paid out of

distributions, by automatic redemptions, or through separate billing of

an investor's account. Two commenters indicated that funds most likely

would deduct installment load payments from dividend

distributions.15 The Commission invites further comment on the

methods that could be used to pay installment loads. Whichever method

is used, however, it would have to be disclosed in the fund's

prospectus, as required by the proposed [[Page 11892]] amendments to

Form N-1A.16 Because different methods of collecting load payments

could carry different potential tax consequences for investors,17

funds also would be required to disclose those consequences briefly in

the prospectus.18

\15\ICI comment letter, supra note 7, at 8; Letter from Simpson

Thacher to the Division of Investment Management, SEC 2 (Dec. 13,

1993).

\16\See infra section III.B.

\17\One commenter on the 1988 proposal, for example, pointed out

that paying installments out of dividend distributions would mean

that a shareholder would incur dividend income, yet not actually

receive the portion of that income that was used to pay the

installment. ICI comment letter, supra note 7, at 2, 9. Payment

through automatic redemptions, on the other hand, would mean that a

shareholder might incur a capital gain or loss on each such

redemption; if additional shares then were purchased by the

shareholder within 30 days of the automatic redemption, any capital

loss might be disallowed under the ``wash sale'' rule contained in

the Internal Revenue Code. Id. at 9; IDS Financial comment letter,

supra note 7, at 1; NYLIFE comment letter, supra note 8, at 3.

According to another commenter, installment loads could present

potential difficulties for tax-privileged investors, such as

retirement plans subject to the Employee Retirement Income Security

Act of 1974, as amended (``ERISA''). Simpson Thacher comment letter,

supra note 15, at 1-8. Automatic redemptions to pay installment

loads, for example, might result in the mutual fund's being deemed a

fiduciary of the investor for purposes of ERISA, the redemption's

being deemed a prohibited transaction under ERISA, and the

investor's losing its tax-exempt status. Id. This commenter noted,

however, that a fund could seek to obtain a favorable ruling from

the Internal Revenue Service on these issues. Simpson Thacher

comment letter, supra note 15, at 5-6. A fund also could choose not

to offer installment loads to its tax-privileged investors.

\18\See infra section III.B (discussing staff Guide 30 to Form

N-1A).

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B. Deferred Load Calculation

Rule 6c-10 sets two requirements for calculating a deferred sales

load. Under the first requirement, a CDSL must be based on the lesser

of the net asset value (the ``NAV'') at the time of purchase or the NAV

at the time of redemption.19 The 1988 proposal would have required

the ``lesser of'' standard for all deferred loads paid at redemption,

but would have allowed deferred loads paid other than at redemption

(such as installment payments) to be based at a fund's option either on

the NAV at the time of purchase or on the lesser of the NAV at the time

of purchase or the NAV at the time the load was paid. The mandatory

``lesser of'' standard for loads paid at redemption was designed to

eliminate any impediment to redemption in a falling market that might

be created by the load. The second requirement prescribes the method

for load calculation in a partial redemption.20 This requirement

was intended to allow shareholders the maximum benefit from shares in

their deferred load accounts that carried no load.

\19\17 CFR 270.6c-10(a)(1).

\20\17 CFR 270.6c-10(a)(3). A fund must treat as if redeemed

first shares or amounts representing shares not subject to a load,

and treat other shares or amounts representing shares as if redeemed

in the order they were purchased. In a partial redemption, this

method would allow a shareholder, in effect, to delay the payment of

the deferred sales charge. In a full redemption, no particular order

of load calculation would have affected the amount of a deferred

sales charge due.

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Commenters on the 1988 proposal generally argued that neither

requirement is necessary as long as deferred loads are subject to the

limits of the NASD Sales Charge Rule and properly disclosed.21

None of the commenters addressed the concern about an impediment to

redemption associated with the ``lesser of'' requirement, nor any

benefits or drawbacks of the order of load calculation. Some commenters

suggested, however, that allowing, but not requiring, the ``lesser of''

method would make it easier for fund sponsors to obtain financing to

pay commissions to brokers by eliminating the risk of NAV

fluctuation.22 One commenter also argued that eliminating the

``lesser of'' requirement would eliminate the need to build a cushion

into the load structure to account for the risk of a lower NAV.23

This commenter suggested that the ``lesser of'' standard may cause fund

sponsors to set the load at a higher percentage amount than they

otherwise would in order to allow a margin for a possible decline in

the NAV.

\21\ABA Subcommittee comment letter, supra note 7, at 6; ICI

comment letter, supra note 7, at 2; IDS comment letter, supra note

7, at 2.

\22\Deutsche Bank December 13, 1993 comment letter, supra note

7, at 5; ICI June 14, 1994 comment letter, supra note 10, at 5.

\23\Deutsche Bank December 13, 1993 comment letter, supra note

7, at 5.

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The Commission is proposing to eliminate the two load calculation

requirements from rule 6c-10. Under the proposed amendments, paragraph

(a)(1) would allow a deferred load to be a specified percentage of the

NAV at the time of purchase, redemption, or the payment of an

installment, but would not otherwise limit load calculation.24

Paragraph (a)(2) would require the terms of a deferred load to be

subject to the NASD Sales Charge Rule.

\24\This provision also would allow funds to base a deferred

sales load on a combination of these standards, such as on the

lesser of, or the higher of, the NAV at the time of purchase or

redemption, provided the standard is disclosed and is consistent

with any applicable provisions in the NASD Sales Charge Rule. A

``higher of'' standard, for instance, currently is not allowed under

the NASD Sales Charge Rule for mutual funds without an asset-based

sales charge, because the Rule limits the sales loads for these

funds to a set percentage of the offering price. NASD, Rules of Fair

Practice, Art. III, Sec. 26(d)(1)(A).

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The Commission requests comment on whether paragraph (a)(1) should

provide for a deferred load to be based on the offering price either

instead of, or in addition to, the NAV at the time of purchase. The fee

table appearing in mutual fund prospectuses calls for deferred loads to

be expressed, where applicable, as a percentage of the original

purchase price. This disclosure provides easier comparability with

front-end sales loads, which are expressed as a percentage of the

offering price.

The requirement in paragraph (a)(1) that the load be a ``specified

percentage'' stated in the prospectus would allow investors to know at

the time of purchase the maximum percentage amount of the load.25

Under the revised prospectus disclosure requirements, funds also would

have to disclose in the fee table, and explain elsewhere in the

prospectus, the manner in which the load is calculated.26 In

addition, funds would have to disclose the method by which they would

calculate a deferred load in a partial redemption. The requirement in

paragraph (a)(2) that the terms of a deferred load be covered by the

NASD Sales Charge Rule would subject all deferred sales loads to the

NASD's limits on maximum sales charges.27 Such an approach is

consistent with that currently taken with front-end sales charges

assessed on mutual fund shares. The Commission requests comment on the

proposed elimination of the load calculation restrictions and the

reliance on revised prospectus disclosure requirements and the NASD

Sales Charge Rule for deferred sales charges.

\25\The requirement that the load be a ``specified percentage''

does not mean that the amount must be fixed and may not decrease or

increase over time. Rather, it requires only that the percentage

amount of the load to be charged at a given time be disclosed in the

prospectus. Therefore, the phrase ``the same or a lower percentage''

in paragraph (a)(1) as adopted for CDSLs has been deleted from the

proposed text. Funds would be able to show in the prospectus fee

table the range of any deferred load that changes over time, as well

as a schedule of any installment load payments. See infra section

III.A.

\26\See infra sections III.A and B.

\27\The NASD Sales Charge Rule in its current form governs only

deferred loads paid at redemption. The Rule applies to, among other

things, ``deferred sales charges,'' which it defines, in relevant

part, as ``a sales charge that is deducted from the proceeds of the

redemption of shares by an investor.'' NASD, Rules of Fair Practice,

Art. III, Sec. 26(b)(8)(B). To the extent deferred loads would be

allowed to be paid other than upon redemption (e.g., installment

loads), they would fall outside the current definition and would not

be covered by the Rule. The proposed amendments to rule 6c-10

contemplate the NASD's amending its Sales Charge Rule to address

deferred loads paid other than upon redemption. The Commission's

staff has requested the NASD to review its Sales Charge Rule in

light of the proposed amendments. [[Page 11893]]

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C. Deferred Loads on Reinvested Distributions

Rule 6c-10 prohibits mutual funds from imposing CDSLs on shares

purchased through the reinvestment of dividends or other

distributions.28 Some commenters on the 1988 proposal argued that

this prohibition is unnecessary so long as a mutual fund appropriately

discloses the manner in which loads are assessed and so long as loads

charged by mutual funds generally are subject to the limits in the NASD

Sales Charge Rule.29 The Commission is proposing to delete this

prohibition from rule 6c-10. Under the revised prospectus disclosure

requirements, funds that impose deferred sales charges on reinvested

dividends and other distributions would have to disclose this fact in

their prospectuses.30 This approach would be consistent with the

Commission's approach to front-end loads on reinvested dividends. The

Commission requests comment on the appropriateness of the proposed

approach for deferred loads.

\28\17 CFR 270.6c-10(a)(2). The 1988 proposal also would have

prohibited funds from charging deferred loads on capital

appreciation. Because under the proposed amendments paragraph (a)(1)

would allow deferred loads to be based on the NAV at the time of

redemption and at the time an installment is paid, a load could be

charged on any capital appreciation to the extent the load is based

on the higher of the NAV at purchase or at the time of redemption or

load payment.

\29\ABA Subcommittee comment letter, supra note 7, at 8-9; ICI

comment letter, supra note 7, at 5.

\30\See infra section III.B.

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The NASD Sales Charge Rule currently covers front-end loads, but

not deferred loads, on reinvested dividends. The NASD Sales Charge Rule

also does not cover loads on reinvested capital gains distributions or

returns of capital.31 The proposed amendments to rule 6c-10

contemplate the NASD's amending its Sales Charge Rule to address these

issues.

\31\A return of capital generally occurs when a fund's

distribution exceeds the fund's aggregate amount of undistributed

net taxable income and net realized capital gains. See

Determination, Disclosure, and Financial Statement Presentation of

Income, Capital Gain, and Return of Capital Distributions by

Investment Companies, American Institute of Certified Public

Accountants, Statement of Position 93-2, 8 (Feb. 1, 1993).

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D. ``No-Load'' Labeling

As proposed in 1988, rule 6c-10 would have prohibited any exempted

person and its first and second tier affiliates (all as set forth in

the proposed rule) from holding a mutual fund out to the public as

being ``no-load'' or as having ``no sales charge'' if the fund imposed

a deferred load. After rule 6c-10 was proposed, the NASD amended its

Sales Charge Rule expressly to prohibit NASD members and their

associated persons from describing a mutual fund as ``no load'' or as

having ``no sales charge'' if the fund imposes a front-end load, a

back-end load, or a 12b-1 and/or service fee that exceeds .25% of

average net assets per year.32 In light of this amendment to the

NASD Sales Charge Rule, the Commission concluded that it was

unnecessary to retain a separate no-load labeling prohibition for CDSLs

in rule 6c-10 as adopted. The prohibition similarly is unnecessary for

back-end loads other than CDSLs. Although the NASD Sales Charge Rule

currently does not address installment loads, the Commission

anticipates that the NASD would amend its Sales Charge Rule if the

proposed rule 6c-10 amendments are adopted, and believes that it is

unnecessary to amend rule 6c-10 to prohibit no-load labeling in the

case of installment loads. The Commission also believes that it would

be misleading and a violation of the federal securities laws for a fund

that imposes a deferred sales load to be held out to the public as a

no-load fund.33

\32\NASD, Rules of Fair Practice, Art. III, Sec. 26(d)(3).

\33\See 1988 Proposing Release, supra note 3, at 45283

(referring, in turn, to an earlier Commission statement of its

view).

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E. Exchanges Involving Deferred Loads

The Commission is not proposing any amendments to rule 11a-3 under

the Investment Company Act governing exchanges of shares, that relate

to deferred sales loads.34 Back-end and installment loads would

fall under the current definition of ``deferred sales load'' in rule

11a-3,35 and therefore would be covered by the requirements in

that rule on the imposition of deferred sales charges in connection

with an exchange. The Commission invites comment on whether it should

amend the definition of deferred sales load in rule 11a-3 to correspond

expressly with the deferred load definition in the proposed amendments

to rule 6c-10. The Commission also invites comment on whether rule 11a-

3 needs to include any additional provisions for deferred loads.

\34\17 CFR 270.11a-3. The 1988 proposal did not address rule

11a-3.

\35\Rule 11a-3 defines a ``deferred sales load'' as ``any amount

properly chargeable to sales or promotional activities that is or

may be deducted upon redemption of all or a portion of a

securityholder's interest in an open-end investment company.'' 17

CFR 270.11a-3(a)(3). Deferred loads paid other than upon redemption

would fall within this definition because they could be accelerated

upon redemption.

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III. Discussion of Revised Disclosure Requirements

The Commission is proposing new disclosure requirements for

deferred sales loads in light of the proposed changes to rule 6c-10

discussed above. These requirements would reflect the rule's scope

under the proposed amendments, which would permit loads paid at

redemption or in installments. They also respond to the proposed

elimination of the limitations in the 1988 proposal that would have

required a back-end load to be based on the lower of the NAV at the

time of purchase or redemption, and permitted installment loads to be

based on the NAV at the time of purchase or on the lower of the NAV at

the time of purchase price and the NAV at the time an installment was

paid.

A. Fee Table Disclosure

The fee table requirements in Item 2 of Form N-1A currently require

disclosure of deferred sales loads, but do not contemplate installment

loads the amount of which is based on a price other than the purchase

price or redemption proceeds. The Commission is proposing amendments to

the fee table requirements to require disclosure concerning all forms

of deferred sales loads, including installment loads.

The parenthetical explanation following the caption ``Deferred

Sales Load'' in the fee table currently provides for deferred loads to

be expressed only as a percentage of the original purchase price or the

redemption proceeds. The proposed amendment would replace most of the

current wording inside the parentheses with a blank, indicating that a

registrant should provide appropriate disclosure describing the basis

on which the load is computed. This change reflects the greater variety

of load formulations that rule 6c-10 would permit under the proposed

amendments: in contrast to the limitations in the rule as adopted and

as initially proposed, the proposed amendments would permit deferred

loads to be a percentage of the NAV at the time of purchase,

redemption, or the payment of an installment, or the higher or lower of

those amounts.

The proposed revisions to Instruction 5 to the fee table are

intended to clarify how the fee table should address all deferred loads

and to respond to the greater range of practices that would be

permitted under the proposed amendments. The addition of the word

``total'' would make clear that the response to the ``Deferred Sales

Load'' caption for an installment load should be the sum of the

installments (e.g., 6%, [[Page 11894]] rather than 1% a year for six

years). Like the 1988 proposal, the proposed amendments would permit a

fund to include within the larger fee table a tabular presentation of

the schedule of installment payments.36

\36\As currently required by Instruction 1 to the fee table, a

fund also would have to provide a reference following the fee table

to the discussion of any scheduled variations and other information

about installment loads elsewhere in the prospectus.

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B. General Prospectus Disclosure

The Commission is proposing to require more detailed prospectus

disclosure concerning the way in which a specific fund's deferred sales

load is imposed and computed. Proposed new Item 7(g) would cover many

operational details that have been mandatory for all funds under rule

6c-10 as adopted and as originally proposed but would be subject to

greater flexibility under the proposed amendments. These details

include the price on which the load is based, whether deferred sales

loads may be imposed on shares acquired through reinvestments of

distributions, and the way in which the load is calculated.37 If a

fund charges deferred loads on shares from reinvestment of dividends or

other distributions, Item 7(g) would require a statement to that

effect, but it would not require this disclosure if the fund did not

charge such a load. In addition, as a general matter, to the extent

that a fund's sales charges do not differ from those of other funds,

the disclosure in response to proposed new Item 7(g) should be

relatively brief, but to the extent that the fund's charges differ,

more detail may be required.38

\37\As noted above, paragraphs (a)(1), (a)(5) and (a)(6) of rule

6c-10 as originally proposed required a load paid at redemption to

be based on the lower of the NAV at the time of purchase or

redemption; specified the order in which shares should be treated as

being redeemed for purposes of load calculation; and prohibited the

imposition of deferred loads on reinvested dividends and capital

gains distributions.

\38\The General Instructions to Form N-1A emphasize the

importance of brevity in describing practices ``that do not differ

materially from those of other investment companies.'' General

Instruction G (Preparation of the Registration Statement or

Amendment), Part A, Instruction 1.

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The proposed provision also would require an explanation of the

ways in which a shareholder may be required to pay an installment load,

such as through the withholding of dividend payments, involuntary

redemptions, or separate billing of an investor's account. The

Commission also is publishing for comment a revision to staff Guide 30

of the Guidelines for Form N-1A to require funds to describe briefly in

the prospectus any tax consequences for investors related to an

installment load.39

\39\See, e.g., supra note 17 (describing potential tax

complications suggested by commenters on the original proposal).

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C. Performance Data

The Commission is proposing to amend Instruction 1 to Item 22(b)(i)

of Form N-1A to require deferred sales loads to be included in

calculations of advertised total return data. The amendment would

require the calculation to be based on the deduction of the maximum

amount of a deferred sales load at the times, in the amounts, and under

the terms disclosed in the prospectus.

The Commission is not proposing to amend Item 22(b)(ii) of Form N-

1A to require installment loads to be included in advertised yield

calculations. Paragraph (a)(6) of rule 482 under the Securities

Act40 requires advertisements containing yield data to disclose

the maximum amount of any sales load; if the sales load is not

reflected in performance figures, the advertisement also must disclose

that the figures do not reflect the load and that, if reflected, the

load would reduce the quoted performance. Because installment loads

would not be reflected in yield figures, rule 482(a)(6) would apply to

advertisements containing yield figures of funds with installment

loads.41

\40\17 CFR 230.482.

\41\A fund's yield advertisement would disclose the amount of an

installment load, and the period of time during which a shareholder

is subject to the installment load.

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The treatment of installment loads in advertised yield calculations

would be different from the current treatment of rule 12b-1 fees, which

are included in the numerator in the yield formula in Item 22(b)(ii) of

Form N-1A as expenses, and thereby reflected in the yield data.

Therefore, for example, a fund with a rule 12b-1 fee of 1% would show a

lower yield than a fund with comparable performance and an installment

load of 1% per year for six years. The Commission requests comment on

whether it should require a thirty-day percentage amount of an

installment load similarly to be included as an expense in the

numerator in the yield formula in Item 22(b)(ii), or, alternatively,

require that the installment load be added to the net asset value to

reach an assumed ``offering price'' in the denominator in the yield

formula. The first alternative would allow greater comparability to

rule 12b-1 fees, but would understate the yield for those shareholders

that have completed paying the installment load. The second alternative

would treat installment loads as if they were front-end loads.

D. Dealer Compensation

The amount of commissions paid to persons selling funds' shares

currently is not required to be disclosed in prospectuses, except in

the case of front-end sales loads. Item 7(b)(iv) of Form N-1A requires

funds to show in a tabular format in the prospectus the sales load

reallowed to dealers as a percentage of the public offering price. This

requirement currently is deemed to apply only to front-end sales loads.

The Commission requests comment on whether it should amend Item

7(b)(iv) to require mutual funds that impose deferred sales loads to

provide disclosure about the commissions received by dealers selling

the funds' shares comparable to that now provided by funds with front-

end loads. Alternately, the Commission requests comment on whether

proposed new Item 7(g) should be modified to require such disclosure.

IV. Cost/Benefit Analysis

The proposed amendments to rule 6c-10 and Form N-1A would not

impose any significant burdens on mutual funds. Rather, the amendments

should benefit funds by providing them with alternatives in financing

their sales and promotional expenses. The amendments also would enable

investors to defer the payment of a sales charge on the purchase of

mutual fund shares until redemption or over one or more installment

payments during the term of their investment.

V. Summary Of the Regulatory Flexibility Analysis

The Commission has prepared an Initial Regulatory Flexibility

Analysis. The Analysis explains that the proposed amendments to rule

6c-10 would allow mutual funds to impose deferred sales loads other

than CDSLs and would remove certain restrictions in the rule. The

Analysis further explains that the proposed amendments to Form N-1A

would set prospectus disclosure requirements for deferred loads that

reflect the proposed changes to rule 6c-10, but that are similar to the

disclosure currently provided by funds and that would not impose any

additional burdens. A copy of the Analysis may be obtained by

contacting Nadya B. Roytblat, Esq., Mail Stop 10-6, Securities and

Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549.

[[Page 11895]]

VI. Statutory Authority

The Commission is proposing amendments to rule 6c-10 under sections

6(c) and 38(a) of the Investment Company Act [15 U.S.C. 80a-6(c), and -

37(a)]. The authority citations for the proposed amendments to Form N-

1A precede the text of the amendments.

List of Subjects in 17 CFR Parts 239, 270, and 274

Investment companies, Reporting and recordkeeping requirements,

Securities.

Text of Proposed Rule and Form Amendments

For the reasons set out in the preamble, Title 17, Chapter II of

the Code of Federal Regulations is proposed to be amended as follows:

PART 270--RULES AND REGULATIONS, INVESTMENT COMPANY ACT OF 1940

1. The authority citation for Part 270 continues to read, in part,

as follows:

Authority: 15 U.S.C. 80a-1 et seq., 80a-37, 80a-39 unless

otherwise noted;

* * * * *

Section 270.6c-10 is also issued under sec. 6(c) [15 U.S.C. 80a-

6(c)];

* * * * *

2. Section 270.6c-10 is revised to read as follows:

Sec. 270.6c-10 Exemption for certain open-end management investment

companies to impose deferred sales loads.

(a) A company and any exempted person shall be exempt from the

provisions of Sections 2(a)(32), 2(a)(35), and 22(d) of the Act [15

U.S.C. 80a-2(a)(32), 80a-2(a)(35), and 80a-22(d), respectively] and

Sec. 270.22c-1 to the extent necessary to permit a deferred sales load

to be imposed on shares issued by the company, Provided, that:

(1) Any deferred sales load is a specified percentage of the net

asset value at the time of purchase, redemption, or the payment of an

installment;

(2) The terms of the deferred sales load are covered by the

provisions of Article III, Section 26 of the Rules of Fair Practice of

the National Association of Securities Dealers, Inc.; and

(3) The same deferred sales load is imposed on all shareholders,

except that scheduled variations in or elimination of a deferred sales

load may be offered to a particular class of shareholders or

transactions, Provided, that the conditions in Sec. 270.22d-1 are

satisfied. Nothing in this paragraph (a) shall prevent a company from

offering to existing shareholders a new scheduled variation that would

waive or reduce the amount of a deferred sales load not yet paid.

(b) For purposes of this section:

(1) Company means a registered open-end management investment

company, other than a registered separate account, and includes a

separate series of the company;

(2) Exempted person means any principal underwriter of, dealer in,

and any other person authorized to consummate transactions in,

securities issued by a company;

(3) Deferred sales load means any amount properly chargeable to

sales or promotional expenses that is paid by a shareholder after

purchase but before or upon redemption.

PART 239--FORMS PRESCRIBED UNDER THE SECURITIES ACT OF 1933

PART 274--FORMS PRESCRIBED UNDER THE INVESTMENT COMPANY ACT OF 1940

3. The authority citation for Part 239 continues to read, in part,

as follows:

Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 77sss, 78c, 78l,

78m, 78n, 78o(d), 78w(a), 78ll(d), 79e, 79f, 79g, 79j, 79l, 79m,

79n, 79q, 79t, 80a-8, 80a-29, 80a-30 and 80a-37, unless otherwise

noted.

* * * * *

4. The authority citation for Part 274 continues to read as

follows:

Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 78c(b), 78l, 78m,

78n, 78o(d), 80a-8, 80a-24, and 80a-29, unless otherwise noted.

5. Item 2 of Part A of Form N-1A [referenced in Secs. 239.15A and

274.11A] is amended by revising the parenthetical after ``Deferred

Sales Load'' in paragraph (a)(i), and Instruction 5, to read as

follows:

Note: Form N-1A does not, and the amendment will not, appear in

the Code of Federal Regulations.

Form N-1A

* * * * *

Part A. Information Required in a Prospectus

* * * * *

Item 2. Synopsis

(a)(i) * * *

* * * * *

Shareholder Transaction Expenses

* * * * *

Deferred Sales Load (as a percentage of ________); %

* * * * *

Instructions:

* * * * *

Shareholder Transaction Expenses

5. ``Deferred Sales Load'' includes the maximum total deferred

sales load payable upon redemption, in installments, or both,

expressed as a percentage of the amount or amounts stated in

response to Item 7(g), and may include a tabular presentation,

within the larger table, of the range over time of any deferred

sales load (such as a contingent deferred sales load) that may

change over time, or a schedule of any installment load payments.

* * * * *

6. Item 7 of Part A of Form N-1A [referenced in Secs. 239.15A and

274.11A] is amended by removing the word ``and'' at the end of

paragraph (e), removing the period at the end of paragraph (f) and

adding ``; and'' in its place, and adding paragraph (g) to read as

follows:

Form N-1A

* * * * *

Part A. Information Required in a Prospectus

* * * * *

Item 7. Purchase of Securities Being Offered

* * * * *

(g) a concise explanation of the way in which any deferred sales

load is imposed and computed, including: (i) an explanation of the

basis on which the specified percentage is calculated (e.g., the

original purchase price, the price at redemption, or the net asset

value at the time an installment is paid); (ii) if the method of

determining the amount of load results in a load being applied to

shares or amounts representing shares acquired through the

reinvestment of dividends or other distributions, a statement to

that effect; (iii) a description of the way in which the load is

calculated (e.g., in the case of a partial redemption, whether or

not the load is calculated as if shares or amounts representing

shares not subject to a load are redeemed first, and other shares or

amounts representing shares are then redeemed in the order

purchased); and (iv) if applicable, an explanation of the way(s) in

which a shareholder may be required to pay an installment load

(e.g., through the withholding of dividend payments, involuntary

redemptions, separate billing of an investor's account).

7. Item 22 of Part B of Form N-1A [referenced in Secs. 239.15A and

274.11A] is amended by adding at the end of Instruction 1 to paragraph

(b)(i) a sentence that reads as follows:

Form N-1A

* * * * *

Part B. Information Required in a Statement of Additional

Information

* * * * *

Item 22. Calculation of Performance Data

* * * * *

(b) Other Registrants

(i) Total Return * * *

Instructions:

1. * * * If shareholders are charged a deferred sales load,

assume the maximum deferred sales load is deducted at the times,

[[Page 11896]] in the amounts, and under the terms disclosed in the

prospectus.

* * * * *

8. Guide 30 to Form N-1A [referenced in Secs. 239.15A and 274.11A]

is amended by adding a paragraph before the last paragraph to read as

follows:

Guidelines for Form N-1A

* * * * *

Guide 30. Tax Consequences

* * * * *

If the registrant imposes a sales load payable in installments

on the securities being offered, the registrant must describe

briefly in response to Item 6 any related tax consequences for

investors.

* * * * *

Dated: February 23, 1995.

By the Commission.

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 95-4998 Filed 3-1-95; 8:45 am]

BILLING CODE 8010-01-P